Developed and Emerging Banks: A Case of Irreversible Decline vs Irrepressible Rise?

Anton Karamzin, Sberbank’s CFO, moderated this panel and started proceedings by suggesting that the crisis of the past few years has highlighted that emerging market banks are now better able to understand risk management and pricing than their developed market peers.

Petr Aven, Chairman, Alfa banking group, refrained from criticizing Western banks, but domestically sees local banks as better positioned to do business in Russia (better understanding of risks, etc). He sees a few risks in Russia, such as high growth. While other countries’ banks were shrinking recently, Russian banks were growing quickly (80% corporate, 40% retail), which resulted in overleveraging of the corporate sector and will limit future growth of Russian banks (while peers that shrank will post higher rates). He sees retail and corporate loans rising 20_25% and 10_15%, respectively, near term; deposit growth will also slow as income is falling. A longer-term issue is the limited access of banks to capital/liquidity. Overall, he sees the near-term future as rather stable.

Nouriel Roubini, CEO, Roubini Global Economics, said that indeed the crisis of 2007_09 originated in developed markets, first the US then the Eurozone, due to, among other things, excessive debt and leverage, distorted financial sector compensation and inadequately regulated shadow banking. A consequence is that banks need less leverage, and more capital and liquidity. The advantage EM banks have had is that in many countries they went through a series of financial crises in the 1990s and subsequently reformed, with lower levels of debt and better macro fundamentals. There are still fault lines in EM, such as some Central and East European countries, while China is yet to see the full impact of its recent credit binge. EM economies will, however, post much stronger growth than DM countries, account for a rising share of global GDP and require greater deepening of financial systems. We are already seeing new financial centers emerge, such as Shanghai, Dubai and Sao Paolo, as well as Moscow, and this process will continue. The interconnectedness of markets carries good and bad features. It is positive that DM banks work and invest in EMs, but the downside is the problems that can be caused when they quickly repatriate funds and capital to their home markets.

Alexey Simanovsky, Deputy Central Bank Chairman, sees it incorrect to oppose/compare EM and DM banks. Every country/region has good and bad banks. He gave the analogy of good and bad school students. Those who followed regulatory recommendations are doing relatively well, but those that have failed to do so are not. He admitted that the Central Bank may make mistakes and is still not ideal, but at least it understands them and is working to improve regulation.

Kairat Kelimbetov, Kazakhstan’s Deputy Prime Minister, agreed with the moderator that Kazakh banks entered the crisis earlier and hence have reformed their regulation earlier too. The role of the latter has visibly increased recently, unlike the boom years. Banks’ focus is still skewed toward capital-rich state institutions. While he admits that banks should be private, during hard times, state financial arms (like Samruk-Kazyna, Development Bank of Kazakhstan, and VEB) have to share risks unbearable for commercial banks, as the Kazakh government did. The discussion on banks should be placed in a broader context of macroeconomic environment and structure. Given the domination of commodity sectors in the Kazakh and Russian economies, banks have to focus on the real sector, SMEs, and find their niche, while the government with the help of national companies should work on economic diversification.

Oleg Vyugin, MDM Bank Chairman, talked about the safest/lowest-risk banking model. That would be a small regional bank taking deposits from town people and giving loans to them, knowing well its narrow customer base. But this bank would make low profit. To make profit, one needs scale and arbitrage. This is what most banks did – increased arbitrage quickly, but their risk management did not keep up with growth/scale. Hence, risk management needs a lot of attention.

Sergey Vasiliev, VEB Deputy CEO, sees a general problem in internal risk management through an effective reward/punishment system. We are living in times of privatization of profits and nationalization of losses. During crises, state banks have to take on private banks’ risks.

Michael Milken, Chairman, Milken Institute, began by suggesting that one risk is assuming certain markets and economies are homogenous – South Korea, with the world’s most educated population, differs markedly from Thailand, Norway in Europe from Spain and Greece. Another mistake being made is not understanding the lessons of history in terms of what markets constitute higher risk. Many apparently low-risk segments (such as all those triple-A rated mortgage securities) actually turn out to be the highest risk. In terms of debt, corporate credit has long proven a better risk than retail, with Sovereign risk the worst performing. Milken cited half a dozen mistakes that are made over and over, including excessive leverage, real estate loans, banks mismatching maturities, Sovereign risks, misjudged ratings and misunderstanding of currencies. He concluded by saying that one problem has been that financial institutions have been measured by their size and have become too big for the economies in which they operate. Financial institutions are so important and more leveraged than other companies that we need to have a good understanding of the people making decisions in these companies.

The panelists concluded with a sentence on the overall takeaways from the discussion. Roubini suggested there had been too much investment into the wrong forms of capital, too many excesses and that we need to invest more in things such as human capital and infrastructure. Vasiliev suggested that the banking sector needs a serious rethink on the nature of risk, while Kelimbetov suggested that economies need the right combination of public and private support. Milken concluded that we need a better knowledge of history to better understand risks, while Simanovsky alluded to the ultimately similar challenges for both EM and Western banks.